How To Get Lower Bond Yields And A Stronger Rupee In Three Steps

No need for desperately silent budgets or monetary policies. Raghav Bahl details how $50 billion can flow into India via 3 moves.

Nirmala Sitharaman, India’s finance minister, left, speaks to Shaktikanta Das, governor of the Reserve Bank of India, during a meeting at the Reserve Bank of India in New Delhi, India. (Photographer: T. Narayan/Bloomberg)
Nirmala Sitharaman, India’s finance minister, left, speaks to Shaktikanta Das, governor of the Reserve Bank of India, during a meeting at the Reserve Bank of India in New Delhi, India. (Photographer: T. Narayan/Bloomberg)

Markets cannot be conquered or tamed or suppressed. Nor can they be silenced, as Finance Minister Nirmala Sitharaman discovered within hours of her ‘growth, growth, growth’ eulogy on Budget Day. She had hoped to put a lid on nervous bond markets, fragile dollar/rupee exchange rates, and spiraling oil prices by simply ignoring these critical variables in her short speech.

How To Get Lower Bond Yields And A Stronger Rupee In Three Steps
But the minute she dropped the debt bomb on the economy—government borrowing was going to leap by nearly Rs 5 lakh crore, a mind-numbing 50% over the previous year—the die was cast on the Reserve Bank of India governor. He had no option but to deliver a ‘desperate’ monetary policy a week later, screaming out the tough truth that his finance minister tried to mute in her budget speech.

The ‘Desperate’ Monetary Policy

I call the monetary policy ‘desperate’ because it tried every hook, every crook to avoid the inevitable:

  • It held interest rates down for the tenth quarter running even as U.S. treasuries quadrupled through that period, and oil prices nearly doubled.

  • The voluntary retention route was hiked by Rs 1 lakh crore to suck in additional capital from foreign investors in the bond markets. Yields reacted by shedding 10-odd basis points in an unconvincing ‘bond rally’. After all, what could a paltry Rs 1 lakh crore do when the finance minister had inexplicably declined to welcome nearly Rs 2.5 lakh crore or $30 billion that would have gushed in had she altered the capital gains tax rules to permit India’s treasuries to feature in global bond indices. As missed opportunities go, it was the queen of times!

  • The rupee crashed beyond 75-to-the-dollar, and oil threatened to dance into three figures, which is always the most frightening choreography for India’s economy.

But honestly, we don’t need to be so desperate or frightened. Just a couple of smart moves can significantly alleviate this stress – but for that, our Raisina Hill bureaucrats must stop cowering in irrational fears about dollar markets.

Act One: Boldly Go Forth With Sovereign Dollar Bonds

Remember July 6, 2019, when the same finance minister had gleefully announced a $10 billion issuance of overseas government bonds? But then, unfortunately, she scuttled it, scared by a volley of uninformed criticism. If she were to revive that bold idea, it would be a very prudent 5% of the government’s gross borrowing programme and a mere 1.5% of foreign exchange reserves.

In one stroke, she would move the foreign currency risk onto her fiscal accounts, spread joy in domestic bond markets, and herald lower local interest rates. Of course, her ministry will have to develop sophisticated foreign risk management skills to hedge the dollar and launch nimble treasury operations in international currency markets. Yes, it could be risky during times of capital flight. But precisely because it’s difficult and risky, it’s entrepreneurial, pregnant with exciting possibilities and gains.

Unfortunately, I can already hear the naysayers, but let’s debunk each objection one-by-one.

Objection: Volatile dollar/rupee rates will create ‘unquantifiable’ costs in the long term.
Counter: Wrong. By paying a premium of 5%-odd to hedge against future dollar rates, our costs will forever be controlled and quantifiable. While the hedged interest rate would be a few basis points higher than what the government could borrow at in local markets, these shall get compensated by the several positives that accrue on venturing overseas, including the fact that private borrowers get more cash in domestic bond markets.
Objection: Why go overseas when foreign portfolio investors can now take Rs 1 lakh crore of additional rupee debt in the domestic market?
Counter: This one is specious. Because when you float a sovereign bond overseas, you access an entirely new category of lenders, over and above FPIs that are authorised to invest in India.
Objection: Foreign investors could indiscriminately dump our bonds, creating a run on the rupee and ‘importing’ contagion.
Counter: False. Since the bonds will be denominated in dollars and traded on overseas exchanges, any ‘dumping’ would not directly impact the rupee or domestic markets. In fact, the alternative of increased FPI exposure to rupee bonds creates exactly the ‘dumping risk’ that is being wrongly attributed to dollar bonds.

Act Two: Sell 5% Of LIC In Overseas Markets

While it’s yet to be firmed up, the Finance Minister virtually confirmed, by estimating her disinvestment proceeds at Rs 75,000 crore for this year, that she will sell only 5% of the Life Insurance Corp. of India on NSE/BSE. Since LIC could be valued between Rs 10-15 lakh crore, $150-200 billion the math is obvious.

But why is the government so under-confident about LIC’s IPO? I guess the rout suffered by two earlier insurance IPOs—General Insurance Corp. and New India Assurance Co. which wiped out over half of their IPO values—could be scaring the government. In any case, many also doubt the ability of Indian markets to absorb over Rs 1 lakh crore in one shot. So, there is talk of breaking up the offer in two tranches of Rs 50,000 crore plus – i.e., sell, burp, and sell again.

Here’s a head-to-head comparison with China Life Insurance (Group) Co., the biggest in that country:

  • LIC has nearly 3 million field agents vs China Life’s 1.8 million sales force channels.

  • Both companies have sold nearly 300 million policies.

  • LIC’s 66% market share is superior to China Life’s half-a-billion customers.

  • LIC’s market cap at listing is expected to be in the $150-200 billion range, higher than China Life’s $90-100 billion.

  • LIC will be listed on NSE and BSE in India; China Life is listed in Shanghai, Hong Kong, and New York.

Now think a bit out of the box, think bold. Why should we slice LIC’s offering in two tranches, separated by several months, simply because we are scared our local investors may not have enough appetite?

Instead, why don’t we sell half the LIC issue in India, and simultaneously sell the other half overseas? That could raise close to $10 billion on the LSE or NYSE.

Now do the arithmetic one more time:

  • $10 billion from sovereign dollar bonds.

  • $10 billion from the offer of 5% of LIC stock on LSE/NYSE.

  • $30 billion from a tweak to the capital gains tax rules to allow Indian treasuries to list on global bond indices.

Bingo! $50 billion flow into India, bond yields soften considerably, and the rupee appreciates against the dollar. No need for desperately silent budgets or monetary policies.

Raghav Bahl is Co-Founder – The Quint Group including BloombergQuint. He is the author of three books, viz ‘Superpower?: The Amazing Race Between China’s Hare and India’s Tortoise’, ‘Super Economies: America, India, China & The Future Of The World’, and ‘Super Century: What India Must Do to Rise by 2050’.